£20K in savings? I could turn that into £1,180 of monthly passive income!

Here’s how investing a lump sum in the correct vehicle and stocks, and adding a bit regularly, could help create a passive income stream.

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Most people dream of a passive income stream. The bad news is it doesn’t happen overnight. The good news is that following some careful steps, and investing regularly, I reckon it’s entirely possible.

Let me explain what I would do to reach my goals of an additional income stream.

My approach

Let’s say I have £20K to invest today. The first thing I need to determine is what I’m going to do with this, and what investment vehicle I’ll use.

For me, a Stocks and Shares ISA is a no-brainer. This is because dividends will help boost my eventual pot of money, and there’s no tax to pay on dividends when using this type of ISA.

Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.

Next, I need to buy a diverse set of stocks with the maximum dividends possible. This is the most challenging part, in my view. I need to ensure the stocks I pick offer the best returns, but consistently, and at the best rate to boost my pot. Diversification is important as it mitigates risk.

My initial £20K, along with another £150 per month, invested for 25 years, aiming for a rate of return of 7%, would leave me with £236,019. I would then draw down 6%. If I split this into a monthly figure, I’d be left with £1,180 per month. I can enjoy this on whatever I like when I’m retired, when I have fewer expenses.

It’s worth mentioning potential risks and issues. Firstly, dividends are never guaranteed. Second, all stocks come with individual risks that could hurt payouts. Finally, the rate of return I’m hoping to achieve may not materialize. This could leave me with less in my pot to draw down and enjoy.

One pick I’d buy

If I was executing this plan today, I’d buy Coca-Cola HBC (LSE: CCH) shares. I reckon they could help me achieve maximum returns as part of a diversified portfolio of stocks.

The business is a partner of the Coca-Cola company, which really needs no introduction. It bottles and distributes many of the global drinks firm’s products across many regions.

Coca-Cola HBC has been a great dividend payer for many years now. At present, the shares offer a dividend yield of just over 3%. Although not the highest, the consistency of the returns, as well as its previous track record of growing dividends, is attractive. However, I do understand that past performance is not a guarantee of the future.

Furthermore, the shares look decent value for money right now on a price-to-earnings ratio of just 15. This is lower than the P/E ratio of the main business, 22.

With Coca-Cola’s extensive brand power, reach, and popularity, the firm’s future prospects for generous returns look rock-solid to me.

However, from a bearish view, if taste were to change, this brand power and consistent level of returns could come under threat. A more realistic risk is that of the current volatility seeking cheaper alternatives due to tighter budgets. Coca-Cola comes with a premium price tag. If this were to happen, earnings and returns could be dented.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Sumayya Mansoor has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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